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Monopoly? Oligopoly? Should Consumers Care?

Yahoo! Finance

The Exchange•February 5, 2013

By Robert Hahn and Peter Passell

Ma Bell had a monopoly in long-distance calls when Charley’s Angels dominated prime time; Standard Oil came close in oil, long before any of us were born. Almost everybody applauded when they were broken up – and lots of folks groaned when Microsoft (MSFT), another gigantic corporation that cast a very long shadow, escaped the ax in 2001. These days they are inclined to get their knickers in a twist over Google’s (GOOG) dominance of Internet search.

The economist’s case against monopoly follows from the deduction that they can and do restrict total output, raising prices compared with what would happen under “perfect” competition – you know, the textbook case where zillions of anonymous farmers sell their grain at prices no individual seller (or buyers) can influence. The more modern argument against monopolies is that they stifle innovation by others and have less incentive to innovate themselves.

Of course, as the iconic economist Joseph Schumpeter pointed out, firms need to be profitable if they are going to have the will and the way to invest in the next big thing. So, the innovation argument cuts both ways.

More Equal Than Others?

Not so long ago people thought Apple (AAPL) had a lock on the smartphone market. And, indeed the company did dominate it for some time. But today, Android smartphone makers – and Samsung in particular – are vying for supremacy. Meanwhile, Blackberry and Microsoft are making a run at the market with phones that are winning sparkling reviews. Apple is plainly on the defensive, with the stock down sharply and rumors swirling that it will soon unveil a low-margin handset.

What’s the take-out here? To paraphrase George Orwell’s Animal Farm, some monopolies are more equal than others. Market dominance may be temporary, giving way to competitors hard at work in the wings. Indeed, the very existence of high profit margins may be good for consumers because it attracts innovators.

What Can Government Do?

Unfortunately (well, fortunately for economic consultants), one must look at the details to decide if monopolies are likely to be good or bad for consumers, and what, if anything, should be done about them. A good example is the market for high-speed Internet service. In her new book, Susan Crawford of the Cardozo Law School in New York argues that the U.S. broadband industry is on the verge of monopoly -- that Comcast (CMCSA) and Time Warner (TWX) do not provide consumers with the lightning fast speeds possible, divvying up the spoils of a deliberate effort to retard innovation.

We won’t critique the Crawford argument here – though there’s reason to think it is a bit wobbly. Instead, we ask a different question. If Comcast and Time Warner can, indeed, exercise some influence over Internet service prices, what should the government do about it?

Crawford would transform them into public utilities like the distribution systems of electricity companies, regulating prices and forcing the owners to share access to their wires. But this sort of regulation is notorious for distorting incentives for investment and innovation. Indeed, policymakers have been struggling for a generation to figure out better alternatives.

It's About Consumers

Happily there is a middle way, tackling the areas where consumers are plainly harmed by monopolies without imposing broad price- or access regulation. Crawford correctly points out that Internet providers may be able to leverage their dominance in broadband to capture unearned surpluses in must-have programming -- think sports or the latest movies. And we think they should be deterred by limiting the ways dominant firms engage potential competitors.

In this case, a content provider (say, Netflix (NFLX)) should receive a sympathetic hearing if it can show that it is being treated unfairly by comparison with the monopolist’s own content -- and that this unfair treatment is hurting consumers. Similarly, a firm like Comcast should be able to demand changes in Netflix’ market strategy if it is being discriminated against, and consumers are hurt by Netflix’s policies.

Market dominance earned with great products can be good, sometimes very good. And even “bad” monopolies shouldn’t be judged against the ideal, but in comparison to the realistic alternatives. The bottom line (laid out in detail here) should always, always be what will make consumers better off in the long run.

Robert Hahn is director of economics and a professor at the Smith School Oxford University. Peter Passell is a senior fellow at the Milken Institute, and editor of the Milken Institute Review. They are the co-founders of Regulation2point0.org.